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Chinese Auditors: Where Were You Yesterday?

The auditors of small Chinese companies are finally starting to get tough. Is it too little too late?

Last week, accounting firm BDO Global notched one of the latest entries in what can now only be described as a hilarious debacle in China. On Thursday, China-Biotics(Nasdaq: CHBT) filed an 8-K with the Securities and Exchange Commission, sharing BDO's lengthy resignation letter with investors.

The letter detailed familiar-sounding shenanigans for anyone following companies such as Longtop Financial(NYSE: LFT) -- which allegedly had help from lying bankers -- and Yuhe International(Nasdaq: YUII) -- which pulled a switcheroo on investors when a major acquisition fell through.

In China-Biotics' case, the auditors described "irregularities" in sales contracts and other suspicious incidents. For instance, when reviewing online bank accounts, they were "directed by staff of the Company to access a suspected fake website of the Bank." Classic.

The letter also thoroughly relates management's refusal to cooperate with the audit team or address the problems. In one of the few stabs that the company made at mollifying the auditors, it sent a response letter that wasn't signed by the CEO or CFO. The CFO later told auditors that he hadn't reviewed the letter before it was sent.

As a result, BDO concluded "that it is likely that the irregularities identified in our letter ... constitute illegal acts which could have a material effect on the financial statements of the Company."

Pretty gangster, right? BDO is like an accounting Chuck Norris or Steven Seagal, raining down pain in bucketfuls on any dastardly evildoers that dare cross them!

Not so fast.

Where was BDO before? Fraudulent Chinese reverse-merger companies aren't exactly breaking news. And let's be real here -- a company that appears willing to mess with sales contracts and direct its auditor to a fake website for its bank was likely oozing red flags all along.

And I don't mean to just pick on BDO here. An impressive number of auditors -- including the foreign editions of the Big Four -- appear to have been caught with their pants down. If the auditors finally start getting tougher and taking these companies to task, perhaps they can help clean up Chinese businesses, (eventually) allowing U.S. investors to invest safely in China.

Of course, if you want to invest in China now, you may want to sign up (absolutely free!) to follow my fellow Fools Tim Hanson and Nate Parmelee as they trek through China in search of the best shenanigan-free opportunities.